Maximizing the u.s. postal service�s profits from competitive products

sidak, j. gregory;

The Postal Regulatory Commission (PRC) regulates the pricing of the U.S.
Postal Service�s products, including products not protected by the Postal
Service�s statutory monopolies that the enterprise sells in competition with the
products of private firms. The Postal Accountability and Enhancement Act
(PAEA) of 2006 created new requirements for the PRC�s pricing regulation of
competitive products. I evaluate the economic implications of the PAEA�s three
primary requirements with respect to the Postal Service�s pricing of competitive
products: preventing cross subsidy of competitive products by monopoly products,
ensuring that competitive products cover their �attributable� costs, and allocating
to competitive products an appropriate share of the Postal Service�s
common costs (known as �institutional� costs in postal regulatory jargon). The
first has a relatively straightforward economic interpretation: the PRC can use
either the incremental cost test or the standalone cost test to detect cross subsidy,
subject to some nuances when the Postal Service does not break even. To ensure
that the Postal Service�s competitive products meet the PAEA�s attributable-cost
requirement, the PRC can apply an incremental cost test using Shapley values.
Given the evolution of the Postal Service�s network to support competitive products,
the PRC should use incremental costs that are neutral with respect to the
order in which the Postal Service has introduced its product lines. Next, I explain
that the appropriate share of institutional costs for the Postal Service to recover
from competitive products depends on understanding in precise economic terms
the alternative rationales for empowering the PRC to regulate the Postal Service�s
competitive products. I identify and analyze the implications of three possible
rationales: (1) ensuring that the Postal Service fulfills its essential mandate to
deliver monopoly (�market-dominant�) mail services, (2) ensuring that the
Postal Service fulfills its fiduciary duty to taxpayers as a state-owned enterprise,
and (3) preserving competitive parity in markets in which the Postal Service competes
with private firms. I find that those goals indicate that the optimal allocation
of institutional costs to competitive products would maximize the Postal
Service�s profit from its sale of competitive products�thereby enabling revenues
from competitive products to cover as much of the Postal Service�s overhead as
possible. I review how a multiproduct firm maximizes profits using Ramsey
prices. I then propose a simple shortcut by which the PRC could approximate
those prices for its competitive products with limited information and at relatively
low administrative cost. By gradually increasing the share of institutional costs